[Updated] NorthStar, Colony Merger to Create $17 Billion REIT

NorthStar Realty Finance (NYSE: NRF), a real estate investment trust that is a major owner of senior housing real estate, will be merging with its current external manager, NorthStar Asset Management (NSAM), and private equity firm Colony Capital Inc. (NYSE: CLNY).

The all-stock merger is expected to create a diversified global equity REIT with a pro-forma equity market capitalization of $7 billion and total capitalization of $17 billion. It would have $58 billion of assets under management, placing it in the top quartile of the REIT sector overall.

The new entity will be named Colony NorthStar Inc., the three companies announced Friday. Current Colony CEO and President Richard B. Saltzman will serve as CEO of the new entity. David Hamamoto—executive chairman of NSAM and chairman of NRF—will serve as executive vice chairman of Colony NorthStar. Billionaire Thomas J. Barrack Jr., who founded Colony, will be executive chairman of the board for the new REIT.

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Under the terms of the deal, NSAM is the acquiring party. The company will redomesticate to Maryland and elect to be treated as a REIT; NorthStar Realty and Colony then will merge with NSAM through a series of transactions, and the overall transaction is expected to close during the first quarter of 2017.

At that point, NSAM shareholders are expected to own about 32.85% of the new entity, with Colony shareholders owning approximately 33.25% and NRF shareholders owning roughly 33.90% on a fully diluted basis.

NorthStar Asset Management has externally managed NorthStar Realty Finance since spinning off from the REIT in 2014. In January, NSAM came under pressure from activist shareholders who pushed for a recombination, pointing to sharply sliding share prices. NSAM shares have fallen about 43% in the last year, and NRF also has seen share prices decline more than 50% from previous highs after the spinoff.

Executives called out the management structure as a contributing factor to the declining stock prices on a conference call with investors Friday.

“Recently NRF and NSAM have underperformed due to the bias against externally managed companies,” Hamamoto said.

NSAM hired Goldman Sachs Group Inc. to explore options, and rumors of the three-party deal with Colony began to circulate last month.

Executives noted the potential recombination between NRF and NSAM was considered but did not go through in light of the opportunities from the merger with Colony.

“The recombination of the two was definitely on the table,” Hamamoto said. “Both NRF and NSAM had special committees with their own advisors. Each specialty committee concluded the deal with Colony was a much better answer for everyone.”

Colony NorthStar will be internally managed, and achieve an anticipated $115 million of cost savings on a normalized annual basis thanks to identified synergies, according to an investor presentation on the merger.

“The reason that this [merger] is so compelling, where we can a three-company merger and it’s a win-win for everybody, is that this is a long-term vision…” Hamamoto said. “We obviously had some headwinds with the external management structure. That has changed. …We thought this was a great way to emulate what they market likes.”

NorthStar Realty Finance had a health care portfolio of nearly $7 billion as of September 2015, with about 45% of those assets being assisted living or independent living properties. NorthStar Realty Finance is high-profile REIT in the senior housing sector, with recent deals including the $875 million purchase of independent living communities from an affiliate of Holiday Retirement.

James F. Flaherty III forged a relationship with NRF in 2014, after a decade as CEO of HCP Inc. (NYSE: HCP), one of the “Big Three” health care REITs. In February, the high-profile leader drastically scaled back his role with NorthStar, but said that this was for personal reasons and not due to any disagreements over how the company was being run.

Health care will make up about one-third of the initial Colony NorthStar portfolio. Real estate debt and other debt related securities will compose about 26% of the initial portfolio, and hotel properties will account for 18%.

Moving forward, the companies expect that the merger will enable them to optimize portfolio management—including by incubating new platforms—and will deleverage and strengthen the balance sheet, leading to more favorable cost of capital. The REIT will be investing primarily in six verticals, though executives noted those verticals are not set in stone just yet.

Its increased financial flexibility should enable Colony NorthStar to attract institutional capital and execute value-enhancing transactions, according to the investor presentation.

“This strategic combination is the next logical step for NSAM and NRF, creating substantial value for shareholders and transforming the companies into a world-class, internally-managed equity REIT that includes a sizable, established institutional and retail asset management platform,” Hamamto said in a prepared statement. “We are confident that Colony NorthStar with its lower leverage, larger balance sheet and improved liquidity profile is poised for meaningful multiple expansion and substantially enhanced long-term returns for shareholders.”

Special Committees of NSAM and NRF have approved the transaction, as has Colony’s board of directors.

Written by Tim Mullaney

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